India showed that it has no intention of compromising in its half-century dispute over Kashmir yesterday by arresting a leading Kashmiri separatist known for his outspoken support for the divided state's incorporation into Pakistan.

The police, who raided three properties belonging to Saeed Ali Shah Geelani, accuse him of illegally receiving money for Kashmiri militants, and said that some of it had come from Britain.

Mr Geelani was flown north from his home in Srinagar, the summer capital of Jammu and Kashmir, to Ranchi, where he was put in prison.

His sudden detention, at a time when the tension between India and Pakistan has been easing, is likely to annoy Islamabad.

In a weekend interview President Pervez Musharraf described the likelihood of war with India as "minimal".

He told the Malaysian newspaper the New Sunday Times that the threat of war had "diminished" in the past four or five days and he felt "very optimistic" after his talks with the US deputy secretary of state, Richard Armitage, who visited Islamabad and New Delhi last week.

Gen Musharraf assured Mr Armitage that the infiltration of Islamist militants into India had ceased "permanently". India, which was given the message by Mr Armitage, is expected to reciprocate today by announcing a series of tension-reducing steps,including enhancing its diplomatic mission in Islamabad.

Sources say New Delhi is also likely to recall the five warships sent to the Pakistani coast at the height of the military confrontation last month.

After leaving India, Mr Armitage confirmed on Saturday that New Delhi was contemplating "some military gestures" before the US defence secretary, Donald Rumsfeld, visits the region later this week.

"I think you couldn't say the crisis is over, but I think you could say the tensions are down measurably,' he said. Indian officials said cross-border terrorism had fallen dramatically in the past two weeks, after Gen Musharraf's promise to stop it.

But New Delhi wants more time to decide whether to withdraw its troops from the border.

Despite the reduced tension, the two armies continued to shell one another yesterday. Three passengers on a bus were wounded and a television tower destroyed when they were hit by Pakistani firing near Poonch, Indian officials said.

Suspected Kashmiri militants dragged four Muslim brothers from their homes in a village in Udhampur district, 100 miles north of Jammu city, and shot themdead, apparently believing they were police informants, they added.

Pakistani officials said seven people were killed at the weekend by Indian shelling.

Indian military sources said that soldiers had shot dead two suspected members of al-Qaida "of Arab appearance" trying to pass from Pakistan into Drass, in northern Kashmir.

While war seems to have been averted for now, there remain plenty of things that could tip the region back towards conflict, not least the prospect of violence in the run-up to the Kashmiri elections in September.

The revolt against Indian rule in the Muslim-dominated valley has been going on for 12 years. About 50,000 people have died. Successive previous Indian governments have rigged elections in the state in favour of the National Conference, part of the government coalition in New Delhi.

The Hindu nationalist prime minister, Atal Bihari Vajpayee, insists that this one will be free and fair.

But the All-Parties Hurriyat Conference, the main separatist alliance in Kashmir, has refused to take part. Its chairman, Abdul Ghani Bhat, condemned Mr Geelani's arrest and implied that it was part of an Indian attempt to disable the separatist movement.

He accused India of trying to "subvert" peace efforts and called for a general strike in the Kashmir valley tomorrow.

Indian detectives said they had a watertight case against Mr Geelani, who they alleged had illegally received $30,000 (£20,500) and other items, including a diamond-studded watch engraved: "A gift from Pakistan." They said the money came from a local businessman, Imtiaz Bazaz, who was given it by Kashmiri activists in Britain.

In March another leading Kashmiri separatist, Yasin Malik was arrested and charged with similar offences